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Finance Personal Finance Theta Decay - Using Time To Make Money With Options
Finance Personal Finance Theta Decay - Using Time To Make Money With Options
| Theta Decay - Using Time To Make Money With Options |
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| Written by Walter Fox |
| Thursday, 18 December 2008 09:37 |
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There are as many option trading systems out there as there are bright young traders looking to make a buck. Unfortunately, not all systems are made equal. Choosing the wrong one, or using it incorrectly, could lose you a substantial chunk of your hard-earned capital. One system that can be effective when practiced correctly is theta decay. Don't be intimidated by the fancy name; the underlying concept is actually quite simple. The system is based on a fact that all option traders know: options expire on a specific, known, date. One result of this is that option values change over time. In particular, they change significantly when their expiration dates are drawing near. For example, options traders have learned that option values tend to drop as the strike date approaches. Theta decay analysis is able to serve as the basis for an option trading system because, compared with stocks, options are much more information-rich. The existence of an expiration date gives options traders the information foothold they need. Big gains can result for those able to keep up with the brisk flow of options information. Actually, it's not that difficult to use theta decay techniques to cash in on those gains. Remember the fundamental concept: the closer the expiration date is, the faster the time value changes. In particular, studies show that the time value of an option decreases according to a linear trend until approximately the last thirty trading days prior to expiry. Those last thirty days are where this set of option trading strategies comes into full effect. As the issue gets closer within that thirty day period, the time value of the option starts to decline at an accelerated rate. As a result, if you hold certain positions, you can profit from this loss. Imagine, for example, that you have an option approaching expiration and hold a short position while also selling an inverse call option. You could realize two separate gains. The first of these comes when you sell the call at a premium relative to its actual value. The second can result if the option does not finish on the positive side in money. Ultimately, with good timing and keen senses for information gathering, you can use theta decay as part of your stock option trading strategy. Of course, there is always the risk of losing your principal if you're not careful, but if you can read the market well and pay attention to expiration dates of options, you too could make money from this not so well known but obvious market strategy. About the Author: TheScienceOfTrading.com provides 90 free minutes of videos on option trading systems and provides a complete and detailed stock trading education for beginners to experts. Kindly provided by LJ-Marketing.dk You are welcome to use this article on your own website, if you include the link just before this text. |
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